And The Big Announcement I Was Alluding To Yesterday Is…

When I alluded to a big announcement in my teaser blog yesterday, I wasn’t kidding. I had the pleasure of meeting Brendan Wallace and Brad Greiwe, the Co-Founders of Fifth Wall, and their amazing teammate Natalie Bruss last week to learn about their new fund. As I mentioned, I was blown away by their vision, their insights and the amount of capital they raised. But, anyone who knows me knows that I value people and their integrity more than anything. So this announcement is a really big deal for reasons other than the whopping size of the fund. It’s a big deal because of who Brendan and Brad are, what they have done previously, and who their investors are. Virtually a “Who’s Who” of the leading real estate brands in the world.

One of the things I have also been writing about lately is that we have entered a new phase in the real estate tech world where there are bigger players entering the space, with larger checks… but they are doing fewer deals in only the most sophisticated and profound ideas and sites. CB Insights has a great report/analysis they put out last week that is worth looking into on this subject.

This trend has been totally supported in my recent meetups with the large brokerage firms and owners as they are now getting much more aggressive and active in the space. This is a really exciting trend for the sector overall, but clearly the pack is separating from those with resources and traction, and those without it.

Having Brendan, Brad and their partners focused on real estate tech in such a meaningful way is a great thing for the entire sector! I was thrilled to have them share their insights in this Q&A with me. While it’s long, it’s worth the time for anyone interested and active in real estate tech to read. In my humble opinion, this will be one of those announcements we will look back on in a few years as the beginning of something really important in the sector.

And here is the interview I did with Brendan and Brad…

Michael: What are your backgrounds?

Brendan: I grew up in a real estate family, so I guess you could say I have real estate in my blood. Even in college, I studied real estate and wrote my senior thesis at Princeton on urban planning. After school, I started at Goldman Sachs doing real estate investment banking and CMBS. I then moved to Blackstone’s real estate private equity group. I was fortunate in my timing as I began my career in 2004 so I got to ride the wave of the “bull cycle” culminating in working on Blackstone’s buyouts of Equity Office Properties and Hilton Hotels. That all ended in 2008, so I decided to go to business school (at Stanford) and caught the tech bug. As students, a classmate and I launched a technology company called Identified; by the time we graduated we already had 25 employees and went on to raise over $35 million of venture capital. Eventually we grew to about 100 employees, then in 2014, sold to Workday where it become the core of their recruiting software. I had also been an active angel investor and involved in a number of other projects: I co-founded Cabify, the largest ridesharing service in Latin America with another classmate and had also invested in over 65 early stage companies including: Bonobos, Zenefits, DollarShaveClub, Earnest and others.

Brad: After graduating from Harvard, I started my career at UBS Investment Bank in the real estate, lodging, and leisure group where I worked on over $33 billion of M&A advisory work and $1 billion of debt and equity financings including Hilton Hotels $26 billion sale to The Blackstone Group. I quickly moved on to the private equity side of real estate working for both Tishman-Speyer and then Starwood Capital where I executed over $30 billion of acquisitions, debt financings and development projects. I left Starwood in 2010 to pursue what I thought was an incredible investment opportunity in the distressed single family housing space, and co-founded a company called Invitation Homes. I served as CTO and developed a proprietary technology stack to support the valuation, acquisition, rehabilitation, leasing, and professional management of 50,000+ homes in 13 major markets across the U.S. and helped Invitation Homes become the most dominant technology-forward brand in the single family rental category. Invitation Homes (NYSE: INVH) went public earlier this year at a $6.7 billion market cap making it the largest owner & operator of single family rental homes in the country.

Michael: What was the opportunity that you saw that gave you the idea behind Fifth Wall?

Brad: Well, for one, we saw the largest industry on earth, real estate, didn’t have a significant venture capital fund focused on it. Real estate is 14% of the US Economy; the largest lending category; the largest capital market; the largest store of consumer wealth. And I think we can all appreciate that as an industry, real estate is a late adopter of technology and that inefficiencies and opportunities for innovation abound.

Brendan: And at the same time, we also saw that Built World technology was producing larger technology companies than almost any other category of venture capital. Less than 40 real estate and hospitality technology companies represent over $250+ billion of value and 2 of the 3 largest “unicorns” today are Airbnb and WeWork. Last year VCs funded real estate and hospitality tech companies with almost $3 billion of capital. And while there were other focused venture capital funds in much smaller industry sectors (education, agriculture, transportation, etc.) it seemed like real estate and hospitality represented a rare “white space” in the VC ecosystem.

Michael: OK, so why do you think that is? Why does that ‘whitespace’ exist?

Brad: Part of the answer comes down to the simple fact that there’s not a lot of overlap between the worlds of real estate and venture capital. For some reason, people in the real estate industry don’t seem to become venture capitalists. In fact, we’ve yet to meet at general partner of a significant VC fund who comes from the real estate industry. I guess Brendan and I were just lucky to have cultivated this unique hybrid experience between real estate and technology early in our careers.

Brendan: I think Built World technology also has a very unique risk profile. Often in venture capital you face big technical risks that you often don’t face as often in real estate tech. I’m talking about the “Does it actually work?” risk, the “Is it better than existing solutions?” risk. You rarely face that in real estate tech in large part because the industry has been such a late adopter of technology. We often look at companies that have built solutions that are technically not very challenging: taking blueprints and digitizing them, opening a door with a smartphone, etc.

Brad: But at the same time we saw that real estate and hospitality tech had enormous “go to market” risk, meaning if you have commercial brokerage technology and CBRE doesn’t buy or partner with your product, you’re very unlikely successful. This same dynamic seemed to be true across other sub-sectors of real estate: for industrial real estate tech you had to sell to Prologis, for hotels you had to sell to Marriott, Hilton, Hyatt, or for malls to Macerich, Westfield, Simon. The success or failure to sell to a very small number of real estate corporates was often deterministic, making it difficult for investors without the proper real estate network or relevant underwriting experience to effectively understand the inherent risks and opportunities.

Michael: So what was your solution to those risks inherent to real estate tech?

Brendan: We decided to raise a fund backed by the largest owners and operators of real estate in the US, essentially the largest buyers of real estate technology. Basically, we wanted to have in our LP base the ‘must have’ partners for an early stage technology company. So we divided the real estate universe up into its major ‘food groups’, or subsectors, and aimed to raise capital from one of the largest players in each subsector. So we systematically raised from: CBRE in brokerage/real estate services, Prologis in industrial, Lennar in homebuilding, Macerich in retail, Hines in office, Host Hotels & Resorts in hospitality, Equity Residential in multifamily, and Lowe’s Home Improvement. The first $110M of Fifth Wall’s fund was all real estate strategic LPs. They key was to have strategic real estate LPs such that when they adopted a given real estate technology, that contract alone could make or break the business in addition to the signal that our investment could send to the rest of the market.

Brad: Also, each LP didn’t just make a financial investment in Fifth Wall’s fund but also committed time and resources through dedicated corporate development and innovations teams tasked with working closely with us. Its critical for our model that we build and maintain a very high touch, intimate relationship with LPs. We made the strategic decision to only take one strategic LP per subsector of the industry and at times we had multiple large corporate LPs who wanted that spot in our fund. For us, it really came down to which strategic LP was most committed to innovation and technology and how strong and how empowered the teams were internally to drive adoption, invest in, and partner with transformative new technologies for their business.

Michael: What about the rest of the fund? How large is the fund in total?

Brendan: So we raised $212 million in total and have $240M assets under management, as we’ve done $28M in SPVs alongside the fund in the first few months of investing. As I mentioned, the first $110M came from real estate corporates and the rest of the capital was raised from major university endowments, fund of funds, pensions…more of the traditional LPs you see in most established venture funds. Once we had engineered our competitive ‘edge’ with these commitments from big real estate corporates, the traditional financial LPs were relatively quick to commit because they had all recognized that real estate and hospitality technology were driving a disproportionate amount of their returns from the generalist VC funds they had invested in.

Michael: And how do you specifically work with your strategic LPs on deals?

Brad: So we invest an enormous amount of time into our strategic LPs. Fifth Wall takes a primarily “top down” approach to VC investing which is actually fairly straight-forward. First, we identify a particular pain point/opportunity for our LPs, a situation where we know they are likely to purchase/partner with a technology solution. Then we evaluate the various startups that could address that need and hold a “bake off” of sorts, usually selecting one of these target companies and facilitating a commercial agreement with one or many of our LPs, usually opening up a financing round or structuring an opportunistic investment.

Brendan: This is distinct from a more “bottom-up” approach that is more typical in venture capital, focusing on team, technology and product and basically speculating on market adoption. Essentially a lot of this speculation is around what Fifth Wall’s LPs will do: will they buy this technology? Will they partner with it? I think that’s why we’ve worked so well with other top-tier generalist VCs. We’ve co-led and co-invested with Sequoia, Founders Fund, Khosla, Bessemer and others, acting as a strategic partner validating the specific real estate risk and opportunity and solving the distribution angle.

Michael: And how do you invest? Are you stage focused?

Brad: So one thing to note is that we rarely participate in purely competitive rounds, especially when everyone involved is just competing on price so we typically avoid those financing situations. We usually approach companies off cycle from their financings and have in most occasions opened up prior financing rounds and/or structured game-changing commercial agreements with our strategic LPs usually tied to opportunistic investment rights. We’re quite fortunate that because we can really add differentiated value to these early stage real estate technology companies, we’re batting 1,000 right now as we’re 7/7 on deals and every deal we’ve done has been very opportunistic.

Brendan: There’s also two core criteria we’re looking for in all Fifth Wall deals. Only when we can answer yes to both of these questions do we invest and that can occur from as early as Seed to as late as Series D:

First, are we investing opportunistically? As we mentioned, we do not participate in competitive bidding financings and instead opportunistically approach companies once our LPs have awarded them a contract or we’re structuring a critical commercial partnership.

Second, can we influence the outcome? Can we be game-changers? We’ve heard a lot of entrepreneurs frustrated with VCs that overpromise and underdeliver. Fifth Wall’s investment model is premised on being different from generalist VCs and being able to deliver unique real estate value. On the flip side, if we can not be game-changing for a company we don’t invest.

Michael: And how have generalist funds reacted to your model?

Brad: So far, we’ve done 7 deals for over $60M, alongside some of the best generalist funds in the space: Sequoia, Bessemer, Khosla, Foundation Capital, Founders Fund, Google Ventures, Thrive, Trinity, Insight, and others. In pretty much every case these funds have recognized the unique value that Fifth Wall can deliver and have either opened-up financing rounds for Fifth Wall or allowed us to invest on an opportunistic basis alongside them. We’ve found that many of these top tier funds are looking for industry specialists like Fifth Wall so we’re now getting a lot of dealflow from these funds due to the access, expertise, market validation and scale of distribution our LPs represent.

Brendan: In a few instances where we’ve opened up rounds, Fifth Wall’s investment itself helped support the company’s next financing. At times, we also evaluate competitive companies concurrently and select one for investment and partnership. Because VCs have started to see that Fifth Wall’s investment usually comes with an often game-changing partnership, our investment in one company (vs. say its closest competitor) can send a strong signal to the venture community about what our LPs are doing and therefore who it’s likely to have an edge. This is why it’s so critical for Fifth Wall to ensure that each and every one of our portfolio companies is successful and why we put so much effort into ensuring the success of the commercial agreements with our strategic LPs.

Michael: What are the 7 deals Fifth Wall has invested in to date?

Brad: Our vision of impacting the Built World has taken shape faster than we could have imagined, with $60 million successful investments in some of the most transformational tech companies in this space including: b8ta, ClassPass, Clutter, Notarize, Opendoor, States Title and VTS. In each of these deals we’ve added value through partnerships with our strategic LPs.

Michael: How does Fifth Wall aim to source deals?

Brendan: There really are two main channels for dealflow. First, our corporates often share companies that they’re considering adopting or partnering with. We then work collaboratively to conduct due diligence and engineer commercial agreements/investments in those companies. We’ve also started to get a lot of deal flow from top-tier generalist VCs who will often send a prospective or current portfolio company and ask if it could be relevant to our strategic LPs. Building and maintaining these strong relationships with generalist funds is central to our competitive advantage because it enables us see the entire investable universe in real estate and hospitality tech and add a ton of value to prospective portfolio companies.

Michael: What’s been the most challenging aspect of running Fifth Wall?

Brad: We oftentimes evaluate multiple tech solutions and it’s likely our strategic LPs will sign a commercial agreement with just one company. In these situations, it’s important to be very delicate in managing expectations and ensuring transparency to everyone involved because we need to be very thoughtful about the message our investment can send to the market.

Brendan: It’s also critical to maintain the high trust relationships we’ve built with our strategic LPs. We’ve put a lot of work into building real processes and systems to make sure we’re fully aligned. For example, we’ve built a proprietary CRM of almost every company in Built World technology that we’ve shared with our strategic LPs and maintain weekly calls where we review future priorities, actionable investments, and follow-through on commercial partnerships and investments.

Michael: What are some of the major themes you’re focused on in real estate technology today?

Brad: You had a great blog post recently about the emergence of the real estate technology ecosystem. I think you’ll see a lot of the same dynamics that took place in corporate enterprise software start to take place in real estate software. In effect, the most successful early-stage companies, like VTS for example, will solidify their leading platform position and potentially incubate or roll-up the many different point solutions which exist in the CRE today. It’s very similar to what happened with Oracle and SAP in the corporate enterprise technology ecosystem where they layered on human capital management, financial management, marketing software to the core ERP backbone that launched their businesses. I wouldn’t be surprised if you see similar consolidation efforts take place with VTS in real estate enterprise software.

Brendan: There are a lot of real estate technology solutions which I would define as “enablement” technologies. Basically, these are technologies that digitize or add efficiency to existing real estate workflows, providing B2B enterprise software for the real estate industry and I think you’ll see enormous companies being built in this category. On the other hand, we are intrigued by companies that use technology in some creative way to reimagine space itself or reimagine the actual definition of a real estate company. We refer to these companies as “tech-enabled real estate companies”. With the emergence of coworking, coliving, micro apartments, on-demand self storage, etc., we see a lot of companies like this. We think the next great real estate companies are going to be built with technology at their core, where technology is existential to their very existence. WeWork, Clutter, and some of the co-living companies all fall into this category. Because these companies have both a tech component and real estate dimensionality we see this as a category where Fifth Wall’s strategic LPs are uniquely suited to help accelerate growth.

Michael: What’s next for Fifth Wall?

Brad: So today is our public launch and we’re thrilled to tell the world about what we’re doing and who we are. I think the hard work continues for us as we look to identify transformative early stage companies in the Built World where we can accelerate their growth through Fifth Wall’s unique investment strategy.

Brendan: And I think we’re also really excited to have a hand in influencing the growth of this enormous ecosystem of Built World technology companies more broadly. The growth of real estate technology has been nothing short of dramatic both in terms of how big the winners can become like WeWork and Airbnb but also in how much opportunity there is for continued innovation. Publications like CRE // Tech have put a spotlight on the transformations already underway in the industry and we’re honored to be part of this ongoing dialogue. We’re laser focused on ensuring the success and growth of our portfolio companies and in helping foster ongoing collaboration between the major real estate industry incumbents and dynamic fast growing Built World technology companies.

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